Andrew S. Duff - Chairman and Chief Executive Officer
Debbra L. Schoneman - Chief Financial Officer, Principal Accounting Officer and Managing Director
Piper Jaffray Companies (PJC) Q4 2013 Earnings Call January 29, 2014 9:00 AM ET
Andrew S. Duff
Good morning, ladies and gentlemen, and welcome to the Piper Jaffray Companies Conference Call. Before we begin -- this is Andrew Duff. Before we begin, our review of 2013 results, as you can see, we've incorporated certain non-GAAP elements in presenting our results. Our objective in enhancing our reporting is to provide you with more clarity on the performance of our business by excluding items, such as noncontrolling interest from our consolidated investment funds in certain acquisition-related costs. Deb will provide more details on this, as well as our financial results.
Turning to our year. We had a very strong finish to 2013, with nearly all of our businesses up sequentially and year-over-year in the fourth quarter to deliver our best quarterly revenue since we went public in 2004. In general, we saw momentum build in our equities-related activities as the year progressed. The strong finish in our fixed income activities partially overcame challenging conditions we experienced in midyear. Our diverse mix of businesses combined to produce improved results over 2012 in all key metrics, including revenues, net income and most importantly, return on equity. For the year, we generated an ROE of 6.2%, an improvement over last year's 5.7% and a substantial improvement over 2011's ROE of 2.3%
The comparison versus 2011 is important since it marked a key inflection point for us. In the midst of serious market dislocations in 2011, we embarked on a series of strategic steps with the overall objectives of producing meaningful improvements to our ROE over the near to mid-term and generating solid profits in any market environment.
Also, we believe that as we executed successfully on our strategy, we would strengthen our position as an attractive platform for professionals and firms. We continued our substantial progress in achieving these objectives in 2013.
In addition to the improvement in ROE, we generated solid results during the periods of serious market dislocations mid-year in our key markets, and 2 firms and several significant groups elected to join us during this year.
This progress was attributed to strong execution on our key objectives. First, delivering the benefits of diversification in our business model. Early in the year, anticipating weakening fixed income markets and strengthening equities, we reduced our exposure to fixed income and deployed capital into our equities and asset management businesses. These businesses, together with our equity capital raising business, contributed meaningfully to our strong results.
Second, focusing our resources in our strongest and highest-margin businesses. The areas of specific focus were public finance, asset management and advisory services. The acquisition of Seattle-Northwest was an important step in building out our national footprint in public finance in the acquisition of Edgeview, plus the addition of an investment banking team from Partnership Capital Growth expanded our M&A resources.
Lastly, judicious deployment of firm capital into areas where we have a differentiated expertise and market opportunities. We rebalanced our investment profile by reducing our exposure to fixed income while increasing our exposure to equity markets, as we saw performance in these markets shift during the year. In addition, other areas where we benefited from the strength of our execution included risk management that enabled us to navigate difficult markets, discipline in hiring and strong performance by our corporate support services team that enabled us to close our acquisitions on time, realizing expected cost synergies and smoothly integrate operations.
Now I will spend a few moments highlighting the performance of our business in 2013. In public finance, we continued to gain market share. While industry volumes were down more than 15% for the year, our business was close to even with 2012.
Our product diversity and industry sector strengthened, helped overcome weak refunding activity in the second half of the year. We feel these advantages will help us weather what we expect will be challenging markets in 2014 and will position us as an attractive home for professionals or firms seeking more stability. Our performance in fixed income brokerage was satisfactory, in light of the serious market dislocations in mid-year. We expanded our middle market sales force by about 30% in 2013 with the addition of 2 major teams and select hiring, and we added to agency mortgage product capabilities.
We are positioned for gradually rising rate environment in 2014 and should benefit from seasoning of the 2013 additions to our platform.
Switching to our businesses that participated in the equity markets. Market gains of 30% for the year provided robust conditions for equity capital raising, trading and investing activities. For the first time since 2007, revenue from equity capital raising exceeded $100 million for the year. Our health care team, bolstered by our added resources in biotech, led the way with solid contributions from our consumer and TMT teams. Notably, we served as book runner on about half of our transactions for the year, which has been a focus for us within our capital raising businesses.
Our M&A business finished the year on a high note as we recovered from dormant markets through mid-year. We experienced increasing demand through the second half of the year and feel good about our prospects as we head into 2014.
In our equity brokerage area, we continue to make steady, consistent progress. The business improved sequentially each quarter this year. Our great accomplishment, given the market-wide trading volumes [ph], were slightly down for the year. Our momentum in this business has come from a set of client-focused product strategies, which we began implementing in 2012 and more effective deployment of capital in the business. Capital was used more efficiently in our trading desk, and we also allocated some capitals to strategic trading activities in equities as we saw the opportunity to generate investment returns emerge early in the year.
Our asset management business clearly benefited from robust markets. We finished the year with $11.2 billion in assets under management, up from $9.1 billion in 2012. Gains were driven by substantial market appreciation as net new assets were essentially flat.
We also completed an important leadership transition in 2013, with Chris Crawshaw assuming the role of CEO and Head of Asset Management effective January 1. We would like to thank Brien O'Brien for his many years of leadership.
Looking ahead to 2014, we entered the year with cautious optimism. We expect gradual improvement and growth in the U.S. economy, some additional appreciation in equity markets, but at a more modest level than this year, and gradually increasing interest rates. We believe that interest rate environment has factored in tapering by the Fed, with rates moving in response to the rate of economic growth from here. We feel these markets will be mostly accommodating for our business.
Now I'd like to turn the call over to Deb to review the financial results in more detail.
Debbra L. Schoneman
In the fourth quarter of 2013, continuing operations generated record net revenues on a GAAP basis of $187.6 million, an increase of 46% on a sequential basis.
Net income for the quarter was $28 million or $1.75 per diluted common share, and our pretax operating margin was 22.4%. Our fourth quarter results include a $4 million or $0.25 per diluted common share tax benefit resulting from the reversal of our U.K. subsidiary's deferred tax asset valuation allowance.
For the full year, our net revenues were $525.2 million, and net income from continuing operations was $49.8 million or $2.98 per diluted common share. Pretax operating margin of 14.4% was consistent with 2012.
Beginning this quarter, we updated our presentation of segment net revenues to increase transparency and better reflect the types of revenues earned by our capital market segment. Management and performance fees generated from our municipal Securities and merchant banking funds, previously reported as other income, are now presented as a separate line entitled Management and Performance Fees. Gains and losses related to our investments in these funds are included within investment income.
In addition, amounts previously presented as other income or loss have now been broken out into more descriptive separate lines. Investment income or loss reflects gains and losses from our merchant banking and firm investments. Long-term financing expenses represent the interest expense on our variable-rate senior notes. In addition to our GAAP results, we have represented non-GAAP financial measures to provide a more meaningful basis for comparison of our core operating results. The non-GAAP measures exclude revenues and expenses related to noncontrolling interests, amortization of intangible assets related to acquisitions, compensation for acquisition-related agreements and restructuring and acquisition integration costs. The remainder of my remarks will be based on these non-GAAP financial measures.
In the fourth quarter of 2013, continuing operations generated adjusted net revenues of $182.6 million, adjusted net income of $30.5 million or $1.91 per diluted common share. And our adjusted pretax operating margin was 23.1%.
For the fourth quarter of 2013, adjusted compensation and benefits expenses were 60.6% of net revenues, compared to 61.9% and 62.7% in the fourth quarter of 2012 and third quarter of 2013, respectively. The compensation ratio was lower compared to both periods due to an increased revenue base.
We expect compensation and benefits expenses as a percentage of net revenues to be approximately 60% to 62% a quarter in subsequent periods. For the full year, our compensation ratio was 61.9%, compared to 61% in 2012. The higher compensation ratio in 2013 was primarily attributable to changes in our mix of business as we recorded significantly higher fixed income strategic trading revenues in 2012, which have a lower compensation payout.
Adjusted noncompensation expenses were $29.9 million in the fourth quarter of 2013, compared to $28.5 million in the year ago period and $29.1 million in the third quarter of 2013. Going forward, we anticipate quarterly noncompensation expenses of $30 million to $32 million. On a full year basis, adjusted noncompensation expenses were $111 million, consistent with 2012.
On a non-GAAP basis, our effective tax rate from continuing operations was 27.7% for the fourth quarter of 2013. Our reduced tax rate for the quarter was primarily due to the tax benefit from the full reversal of our U.K. subsidiaries deferred tax asset valuation allowance previously discussed.
On a full year basis, our effective tax rate on a non-GAAP basis for 2013 was 30.6%, consistent with 30.7% in 2012. Our effective tax rate was lower in 2013 and 2012 due to onetime tax credits in both years. Going forward, we expect our effective tax rate to be 34% to 37%.
Now I will turn to the segment results. For the fourth quarter, capital markets generated adjusted net revenues of $155 million, adjusted pretax operating income of $31.1 million and an adjusted pretax operating margin of 20.1%. Net revenues increased 25% compared to the fourth quarter of 2012 due primarily to higher equity financing and equity institutional brokerage revenues.
The strong equity market, up approximately 30% from the end of 2012, produced an active capital raising environment at the end of 2013. This resulted in more completed transactions and higher revenues per transaction in our equity financing business, especially in the health care sector. Equity institutional brokerage revenues also benefited from the robust equity market through improve trading performance, as well as higher gains from our equity strategic trading activities, which we began in the second half of 2013 to leverage the firm's intellectual capital and diversify our strategic trading efforts. Our fixed income institutional brokerage revenues also improved in the fourth quarter of 2013 as strong municipal issuance and commerce secondary markets resulted in a more favorable trading environment.
Our fourth quarter net revenues also benefited from gains on our merchant banking investments. Merchant banking investments made before 2010 are accounted for on a cost basis, which can result in significant realized gains in the period of a liquidity event for these investments. The increased net revenues for the current quarter were partially offset by a decrease in M&A activities.
In the fourth quarter of 2012, sellers were motivated to complete transactions prior to year end due to pending tax increases. This catalyst did not exist in the current quarter, resulting in fewer completed transactions.
Adjusted pretax operating margin improved compared to both the fourth quarter of 2012 and the third quarter of 2013 due to leverage in our noncompensation expenses from higher net revenue.
Asset management generated $27.6 million of net revenue, $11 million of adjusted pretax operating income and an adjusted pretax operating margin of 39.8%. Net revenues increased 69% and 53% compared to the fourth quarter of 2012 and the third quarter of 2013, respectively, due to higher management and performance fees.
Performance fees, the majority of which are recorded in the fourth quarter if earned, were $7.1 million, compared to $0.1 million in the fourth quarter of 2012 and the third quarter of 2013.
Management fees also increased due to higher AUM, driven by market appreciation. The adjusted operating margin improved compared to the year-ago period due to higher net revenues and decreased compared to the sequential quarter due to higher compensation expenses.
Turning to the balance sheet. In 2013, we returned $55.9 million of capital to shareholders by repurchasing approximately 1.7 million shares or 11% of our outstanding common stock at an average price of $32.52 per share. We have $39.5 million remaining on our share repurchase authorization, which expires on September 30, 2014.
Now I'll discuss discontinued operations, which includes both our Hong Kong capital markets business, which we shut down last year, as well as FAMCO, an asset management subsidiary we sold in the second quarter of 2013. For the fourth quarter of 2013, the net loss from discontinued operations was $0.8 million, driven by remaining costs related to the sale of FAMCO and the liquidation of our Hong Kong business. We do not expect additional costs going forward of any significance.
This concludes my remarks, and I'll turn the call back to Andrew.
Andrew S. Duff
That concludes our formal remarks. Operator, we will now open the line for questions.
Yes. Is the operator available, please, to open the line?
Operator, if you're available, please, we'd like to open the line for questions.
Well, we apologize. It appears that there are some difficulties with our telephone conference vendor this morning. We would welcome any questions you have. Please call Tom Smith at Investor Relations here in Minneapolis. That number is (612) 303-6336. And again, we'd welcome all questions this morning. And we apologize, there appears to be an issue with our vendor.
And then, let me just make a closing comment. The progress we have made in the past 2 years was driven by our focus on execution. We reduced costs, exited unprofitable businesses, invested our capital wisely and added to our higher-margin businesses. Our improving results attracted growth opportunities as we added Seattle-Northwest and Edgeview, as well as several new groups across our businesses. We believe that we will have additional growth opportunities and the resources to pursue them as we continue to execute in our core business. We thank all of our clients for their trust in us and our employee partners for remaining focused on executing on our clients' and shareholders' behalf. Thank you, all, for joining us this morning. Goodbye.
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